• Anticipate weaker earnings from weaker demand growth and RM, IBR provisions expected in 4Q18

• Most of these factored in, but FY18F earnings tweaked for higher tax rate assumption

• FY19F pretax to grow 5% on natural rise in regulated earnings and new plant commissioning

• TP tweaked lower to RM16.80 but BUY maintained

Weaker earnings anticipated. We anticipate weaker earnings for Tenaga’s upcoming 3Q18. This is on the back of an expected: (1) Weaker demand growth compared to a strong 1H18 (2) Higher effective fuel cost. Gama Enerji took an impairment last quarter – it is uncertain if there is more to be taken in the upcoming quarter.

IBR provisions in 4Q18. Unlike RP1 which essentially allowed Tenaga to keep excess demand, RP2 switches to a revenue cap model (except for customer services). Provisions are likely to be made in 4Q18 for any excess revenues – which also means that 1H18 earnings were slightly inflated. RP2 entails demand growth forecast of 1.8%-2%, relative to 1H18 actual demand growth of 2.7%. The strong demand growth in 1H18 (which hit a new peak demand of 18,010MW in June) is also unlikely to be sustainable given changes in weather patterns. The extent of IBR provision will depend on the net growth achieved for the full year.

Higher fuel cost. There has been a divergence in thermal coal price trends since around July 2018 – 6000kcal rose while 5500kcal dropped, though the divergence has started to narrow. While Tenaga consumes mainly 5500kcal coal which saw average price dropping 5%qoq to USD69.7/tonne (FOB), the RM weakened in 3Q18. In RM and CIF terms, we estimate coal price to have increased by 7%qoq. Coal accounts for ~58% of generation mix and gas another 39%.

Tax incentives expiring. Our checks also suggest that effective tax rates for FY18F is likely to rise against past three FY’s 9%-13% rate as Tenaga’s tax reinvestment allowance gradually expires. Effective tax rates are likely to be higher this year at the mid-to-high teen levels before fully normalising to the low 20% level next year.

Earnings tweaked down. Our FY18F is tweaked down by 7% to reflect the expected higher effective tax rates in FY18 vs. our earlier estimate of 11%-12%. Our FY19F is left unchanged as we had already factored in full normalisation of tax rates. Our forecasts are now 5%/8% below consensus’ FY18F/19F.

Source: MIDF Research - 13 Nov 2018